The Defense Production Act—What US Businesses Need to Know

THE DEFENSE PRODUCTION ACT—WHAT US BUSINESSES NEED TO KNOW

Using his authority under the Defense Production Act of 1950 (“DPA”), President Trump issued an Order on March 27 requiring that the General Motors Company accept and perform contracts and fulfill orders for the manufacture and production of ventilators to treat patients afflicted with the COVID-19 virus. Release of the Order follows issuance of a March 18 Executive Order that announced President Trump’s intention to invoke the DPA as part of the U.S. government’s response to the ongoing COVID-19 outbreak. While the Trump administration initially resisted expanding its authority under the DPA, issuance of the General Motors Order indicates that the U.S. government will employ the DPA when necessary to spur the production of products and materials necessary for COVID-19 response efforts.

This action represents a departure from the most common use of the DPA, which involves government contractors that are well versed in the strict deadlines and other requirements imposed under these types of contracts and bid for these contracts on that basis. This action expands the normal application of the DPA to U.S. businesses operating in sectors not normally considered subject to DPA authority. These businesses should review the potential legal obligations and business implications arising from use of the DPA, which imposes a number of requirements and grants certain legal protections to U.S. businesses that must be understood given the rapidly evolving nature of the U.S. government’s response to the COVID-19 outbreak. This alert summarizes these requirements and protections, while also providing guidance regarding potential business implications.

DPA Overview

Initially enacted in response to the outbreak of the Korean War, the DPA is the president’s primary authority to mobilize public and private sector resources and to expedite the production of critical industrial items for “national defense” purposes. At its core, the DPA is intended to facilitate the supply and timely delivery of products, materials and services in times of national emergency. The DPA accomplishes these objectives by providing the president with two primary authorities. Most important for COVID-19 response efforts, the DPA empowers the president, or any agency to which he delegates DPA authority, to compel domestic businesses to prioritize the production of certain products and goods.

The DPA also authorizes the president to allocate or control the distribution or availability of materials, services and facilities in a manner deemed necessary or appropriate to promote the national defense. The authority to allocate resources has not been exercised for some time and the Trump administration is not expected to invoke it as part of its COVID-19 response efforts. As such, this alert focuses on the president’s authority under the DPA to order businesses to prioritize production of products and delivery of services.

The DPA empowers the president to mandate U.S. businesses sign contracts and fulfill purchase orders deemed necessary for national defense. The president, or any U.S. government agency to whom the president has delegated his DPA authority, also has the authority to demand that a business prioritize the fulfillment of these contracts and orders. The federal government applies a “priority rating” to these contracts and orders, which identifies the specific priority the government places on them. These contracts and purchase orders are known as “rated orders” under the DPA.

The DPA obligates businesses to fulfill a rated order ahead of any other commitments the business may have, including existing or prior obligations to other commercial customers and partners. The president can also incentivize businesses to expand their production and supply of materials and goods to fulfill rated orders through loans, loan guarantees, direct purchases and purchase commitments.

Business Preparations

While businesses that have a significant number of contracts with federal government agencies or customers likely have rated orders in place, other businesses that do not typically have federal contracts could receive a rated order from a U.S. government agency in the coming weeks. As such, businesses in sectors potentially subject to DPA authority should prepare for their need to review and respond to a rated order as the U.S. government’s efforts continue to expand.

The following information should help businesses prepare and understand their obligations under the DPA.

What entities can send a rated order? A rated order could come from a federal agency or other government customer in the form of a prime contract or a purchase order. Given that the president has delegated his authority under the DPA to the Department of Health and Human Services (HHS) for purposes of the COVID-19 response, it is likely that HHS will be the federal agency issuing rated orders through its existing regulations under the Health Resources Priorities and Allocations System. A business could also receive a rated order from a commercial customer that is separately performing a rated order for the federal government. Under the DPA, federal contractors can invoke the DPA and require that their suppliers work under a rated order to provide necessary goods and services.

Does a business have to accept a rated order? In most cases, businesses have to accept rated orders that they receive, but the DPA provides narrow circumstances in which a business may reject a rated order. These include, among other things, impossibility of performance to produce the product or good. In such cases, the business must provide immediate notice to the federal agency or contractor issuing the rated order and the reasons why it cannot fulfill the rated order.

How much time does a business have to respond to a rated order? The DPA and its implementing regulations place strict deadlines by which businesses must accept or reject a rated order. A business that fails to respond to a rated order by the stated deadline (some deadlines can be as short as 12 hours), or to produce the required products by the timeline set forth in the rated order, can be subject to significant criminal and civil penalties.

How does a business know if a rated order complies with the DPA? In examining any rated order, a business must ensure that it meets certain requirements. There are four key elements that must be included on all rated orders. These include (1) the specific priority rating (an alphanumeric code beginning with “DX” or “DO”); (2) the required delivery date (it must be a specific date); (3) the written or digital signature of an individual authorized to sign rated orders for the agency or customer placing the order; and (4) a certification that the rated order is for “national defense use”).

Does the DPA provide a business with any legal protection? One of the major issues businesses encounter when they are performing rated orders is their ability to fulfill the needs of other customers. Given that rated orders can require businesses to prioritize the delivery of the requested product, businesses may have to delay their performance of other customer contracts. Fortunately, the DPA provides certain protections for any business whose performance on a rated order causes it to breach a contract with another customer. The DPA specifically provides an affirmative defense to breach of contract claims by third parties whose product source was unavailable or otherwise cut off because of a supplier’s performance of a rated order.

What contractual terms can a business request for a rated order? A business can request that the entity submitting the rated order accept the legal terms that the business typically imposes on its other customers. However, a business receiving a rated order may not impose any discriminatory terms, including higher prices or preferred payment terms.

Special thanks to Lisa Raisner, Head of Government Relations, who co-authored this publication.